Sandwichman was wondering, though, "how do they get from $X billion of fiscal stimulus to X million jobs created?"

Dean Baker must have been reading my mind. "Assuming that employment is roughly proportional to output..."

Is that all there is?

Percent of GDP in additional government spending times multiplier equals percent increase in GDP and -- assuming an employment effect roughly proportional to output -- equals percent increase in employment?

Is that actually how economists estimate the employment effect of a fiscal stimulus package? Because if it is, the old Sandwichman has news for you economist folks: EMPLOYMENT IS NOT ROUGHLY PROPORTIONAL TO OUTPUT.

I was going to let the following Schlaes line go even if this graph shows that total government spending and revenues did not significantly rise as a share of GDP during FDR’s first two terms:

New Dealers raised taxes again and again to fund spending.

But then Will had to compound the nonsense with:

But people whose recipe for recovery today is another New Deal should remember that America's biggest industrial collapse occurred in 1937, eight years after the 1929 stock market crash and nearly five years into the New Deal. In 1939, after a decade of frantic federal spending -- President Herbert Hoover increased it more than 50 percent between 1929 and the inauguration of Franklin Roosevelt -- unemployment was 17.2 percent.

One graph in this post does show an increase in Federal spending as a share of GDP during Hoover’s Administration - but for the 1929 to 1937 period, the increase in Federal revenues offset the increase in Federal spending. But could someone tell Mr. Will that Hoover was not President during the New Deal era?

Since Peter Dorman has been questioning the Fed’s decision to pay interest on bank reserves, I thought it would be interesting to note how Real Time Economics posed the case for this decision:

Banks are required by law to hold a certain fraction of their deposits in reserve accounts at the Fed, but receive no interest on these deposits. Having the authority to pay interest would solve two technical headaches for the Fed. If they earned interest from the Fed, banks would have no incentive to lend out excess reserves for less. That would make the Fed’s benchmark federal-funds rate, which banks charge on overnight loans to each other, less likely to plunge below the Fed’s official target — now 2% — on days when the banking system was awash in cash. In addition, the Fed could theoretically combat the credit crunch by buying securities or extending loans without limit without causing the federal-funds rate to fall to zero, something that could fuel inflation or distort markets.

In other words, the concerns were that banks would hold too few reserves and that we would end up with higher inflation. But today’s concerns seem to be that banks are holding onto too many reserves and that we may be in for a deflationary spiral and inadequate aggregate demand.

This post also noted that Congress originally intended for interest to be paid on reserves starting in 2011 out of concern that the government might lose income to private banks. While pumping a few extra millions of dollars into the private sector right now might be good Keynesian economics, perhaps delaying this new policy until 2011 would have been better given the collapse of the money multiplier.

Saturday, November 29, 2008

We are watching a bonfire of the old orthodoxies as well as of the vanities. This week Barack Obama promised to spend hundreds of billions of taxpayers’ dollars to prop up the sinking US economy. Gordon Brown’s British government announced it would soak the rich to pay for an economic rescue package … "Something big is happening. What started out as a series of pragmatic ad hoc responses by governments and central banks is moving the boundary between state and market. Politicians are now overlaying expediency with ideology. Government is no longer a term of abuse. Things could move still faster in the months ahead. With their myriad rescue schemes and loan guarantees, the US and British governments have nationalised their respective banking systems in all but name. The banks pretend they are still answerable to their shareholders, but it is a charade. They survive only with the explicit financial guarantee of the state. Still, the markets remain frozen, starving business of the oxygen of credit. Unless things change soon, the politicians will have little choice but to take direct control, and quite possibly, ownership, of the banks. Nationalisation could be the first act of an Obama presidency.

Please! The free market is not working that well right now so government has to step in lest we face a major recession. Paul Krugman calmly explains what we should be doing:

What the world needs right now is a rescue operation. The global credit system is in a state of paralysis, and a global slump is building momentum as I write this. Reform of the weaknesses that made this crisis possible is essential, but it can wait a little while. First, we need to deal with the clear and present danger. To do this, policymakers around the world need to do two things: get credit flowing again and prop up spending ... The obvious solution is to put in more capital. In fact, that's a standard response in financial crises. In 1933 the Roosevelt administration used the Reconstruction Finance Corporation to recapitalize banks by buying preferred stock—stock that had priority over common stock in terms of its claims on profits. When Sweden experienced a financial crisis in the early 1990s, the government stepped in and provided the banks with additional capital equal to 4 percent of the country's GDP—the equivalent of about $600 billion for the United States today—in return for a partial ownership. When Japan moved to rescue its banks in 1998, it purchased more than $500 billion in preferred stock, the equivalent relative to GDP of around a $2 trillion capital injection in the United States. In each case, the provision of capital helped restore the ability of banks to lend, and unfroze the credit markets … My guess is that the recapitalization will eventually have to get bigger and broader, and that there will eventually have to be more assertion of government control—in effect, it will come closer to a full temporary nationalization of a significant part of the financial system. Just to be clear, this isn't a long-term goal, a matter of seizing the economy's commanding heights: finance should be reprivatized as soon as it's safe to do so, just as Sweden put banking back in the private sector after its big bailout in the early Nineties. But for now the important thing is to loosen up credit by any means at hand, without getting tied up in ideological knots. Nothing could be worse than failing to do what's necessary out of fear that acting to save the financial system is somehow "socialist."

Exactly. Paul also turns his attention to the need to increase government spending:

The next plan should focus on sustaining and expanding government spending—sustaining it by providing aid to state and local governments, expanding it with spending on roads, bridges, and other forms of infrastructure.

We should also keep in mind that this boost in spending will not be a permanent increase in the size of the government. The President-elect has already told us he intends to find ways of scaling back portions of Federal spending over the longer-term. Conservative critics would do well to stop and think about the difference between the short-term economic crisis versus long-run economics before writing silly things like this op-ed from Mr. Stevens.

Friday, November 28, 2008

A central theme of Keynes’s General Theory was the impotence of monetary policy in depression-type conditions. But Milton Friedman and Anna Schwartz, in their magisterial monetary history of the United States, claimed that the Fed could have prevented the Great Depression — a claim that in later, popular writings, including those of Friedman himself, was transmuted into the claim that the Fed caused the Depression. Now, what the Fed really controlled was the monetary base — currency plus bank reserves. As the figure shows, the base actually rose during the great slump, which is why it’s hard to make the case that the Fed caused the Depression. But arguably the Depression could have been prevented if the Fed had done more — if it had expanded the monetary base faster and done more to rescue banks in trouble. So here we are, facing a new crisis reminiscent of the 1930s. And this time the Fed has been spectacularly aggressive about expanding the monetary base.

Paul graphs the monetary base, which increased by 72 percent from September 10 to November 19 of this year. We should also note that the money supply – whether measured by M1 or by MZM – has increased by less than 1 percent. Over the same period, this has been a very substantial increase in bank reserves. Much of what the Fed has been doing has been to accommodate this increase in bank reserves so as to avoid a fall in the money supply.

"that they deceived every man into his own ruin; and ruined the nation, to enrich the directors and themselves: They sold their own stock, and that of the directors, under false and fictitious names, contrary to the obligation of their bond to the City, which obliges them to declare the name of the seller to the buyer, as well as the name of the buyer to the seller; for they knew that no man would have been willing to buy, had he known that the brokers and directors were in haste to sell. Thus they used false dice, and blinded men’s eyes, to pick their pockets. “And surely, Mr. Ketch,” says the counsellor, “if he who picks a man’s pocket is to be hanged, the rogues that pick the pockets of the whole country, ought to be hanged, drawn, and quartered.”

Thursday, November 27, 2008

Skilled physicists do not know how to take nothing and turn it into matter and antimatter, but finance behaves as if it had the capacity to do something similar. Imagine a simple market economy about to create a bubble. I want to tell the story of this bubble, only to put the current, crazy stimulus package into perspective.

Somebody says to me they have a piece of paper worth $1 million. I can buy for half the price. I borrow the money to cover most of the cost. People are willing to lend me the money confident in the belief that my paper will increase in value. Other people are engaging in the same transaction, spreading confidence that these papers are now increasing in value, say to $600,000.

The seller of the paper now has a half-million dollars, having given up nothing but blank piece of paper. I have a capital gain of hundred thousand dollars. My lenders have a credit with a half-million dollars. We are all better off, even though nothing has been produced.

Feeling secure in the increasing value of our paper, I along with the other "investors" now start consuming more, spreading prosperity for the economy. Virtually everybody is enjoying the benefit of the bubble. Within a short period of time, people throughout the economy making decisions based on the increasing appearance of health and the economy.

At some point, people realize that this paper is nothing more than a blank sheet of writing paper. The bubble may have stimulated some investment that is capable of producing real economic benefits, but mostly it has induced people to consume and commit themselves to pay back debts.

Remember, this prosperity was built out of nothing. In the end, matter and antimatter collided. The lenders have lost their money. The speculators and consumers are in debt. Most lack the wherewithal to repay their debts. But in the case of the current bubble, the economy does not have the productive capacity to put everything together. The loans came from abroad and so did many consumer goods.

At the same time, the government loans are ultimately dependent on another set of loans, also largely from abroad. How will these loans ever be repaid? Will new loans keep coming as the bubble engulfs the rest of the world?

Should the government come in and give me a half-million dollars so that I can repay my loan? Should I be rewarded for my stupidity and naïveté? Will that policy really make the economy healthy? Or will it policy just facilitate the creation of even greater bubbles?

Obviously, the most sensible decision would be to put the money into making a more healthy economy, one less susceptible to speculation -- something impossible under capitalism, but that is another question. Eventually, somebody will have to pay the piper. The policy today seems to be an effort to shield the very people who created the crisis, placing the burden on the most innocent.

The graphic picture of the stimulus package that I posted yesterday suggests a government response just as foolish as the speculations that set off the bubble in the first place.

In the same survey of stimulus planning, the NY Times reported on the latest EU fiscal initiative, which calls for contributions of 1.2% GDP on the part of most member countries. This infusion, which is much too small relative to the impending output gap, will still bump up against the Maastricht criteria. What to do?

The monetary affairs commissioner, Joaquín Almunia, said that countries that breached the deficit ceiling of 3 percent of G.D.P. would face official reprimands, but would be given longer than usual to bring their budgets back into line because of the exceptional circumstances.

In other words: we know the criteria are absurd under the current conditions, but we will pretend that they still apply.

The EU has been built on a grand compromise, a broadly progressive stance in social and environmental policy and rigid orthodoxy in economic affairs. As in the academic version, the left got the sociology department and the right was given economics, finance and business. It was a bad deal, since misguided economics can do damage faster than the social workers can clean it up. So now Europe has a central bank with hardly any lender of last resort tools and fiscal guidelines that all but rule out serious countercyclical measures.

The current economic crisis should be put to positive political use. You can’t have a “Social Europe” with double-digit unemployment. (You also can’t have a sustainable Europe without getting the economic part of sustainability in place.) There needs to be a shift within the economic regime, and not just in the balance between “economic” and “social” interests. As for fiscal guidelines, they need to be flexible enough to permit rational economic management, and they also have to be responsive to regional trade imbalances. In fact, to constrain fiscal deficits without managing trade aggregates is to put all the recycling burden on private debt, and we are still in the process of finding out where that leads.

In its latest roundup of crisis management from around the world, the NY Times discusses Chinese monetary policy initiatives. Cutting reserve requirements for banks seems counterintuitive to me, but perhaps there are aspects of banking in China that justify it. What really jumped out, though, is this:

To give banks an extra incentive to lend money instead of hoarding reserves, the central bank also lowered by 0.27 percentage points the interest rates that it pays banks for reserves deposited with it.

That does make sense, and it is exactly the opposite of policy in the US, where the Fed has raised the interest it pays on these reserves. But, of course, we need $400 billion in excess reserves to finance the bailout program, so that losses from bad investments can be transferred to the public. This is so much more important than getting new finance out into a frozen economy.

If the workweek is shortened with no loss in pay, what effect will it have on unemployment? There is no firm answer nor can specific estimates be calculated reliably.

The answer depends in good part on how much the workweek is shortened, how and when it is done, how widely the reduction is applied—and on what other economic developments accompany it. Hours reduction will not take place in a vacuum; its effects necessarily are linked to whatever else is occurring before, during and after the reduction.

No one seriously considers it a magic solution to unemployment or the sole answer by itself. Its strongest advocates claim only that it is but one tool although a fundamental one.

There also are different views on whether its principal value is as a defensive or holding measure— one which prevents increased unemployment—or whether it is equally important as a stimulus, one which generates additional employment.

There is wide recognition, particularly at the individual plant level, that shortening of hours will help prevent layoff of more workers (“cutting hours means less cutting of men”). How effectively it does this depends largely on productivity changes and trends in demand.

The extent to which it will lead to hiring of additional workers is a more complex question. It depends on such factors as management attitudes and its judgment about future needs for labor, the level and trend in demand for the company’s products, the nature of its labor requirements and availability of appropriate types of workers in the area or elsewhere.

But under the most typical and likely circumstances, a company reducing its workweek by several hours ordinarily will have to immediately hire additional workers to provide those hours of work if it wants to maintain approximately the same output or service as before.

The longer-run effects then hinge on productivity movements and whether demand for its products increases sufficiently to enable savings from economies of increased production to finance continued payment to workers. In principle, the combination of the new hiring by this and other companies will build aggregate worker income and, in turn, demand for the products.

The pivotal question, of course, is to what extent, by serving to maintain and often to increase employment, shorter hours will be the dynamic new ingredient needed to bolster demand and increase it to the point where more and more companies have to expand employment further and thereby carry along an accelerating rate of economic and employment growth.

Although no reliable answers can be offered, some rough statistical estimates may be useful to show the potential magnitude and significance of hours reduction in relation to current unemployment levels.

Consider the most recent data available at the time of this calculation. Total employment of non-agricultural wage and salary workers in mid-1962 was 51.3 million (not counting the self-employed, domestic servants or unpaid family workers). Many of these workers (11.2 million) were on workweek schedules under 40 hours for various reasons. This left 40.1 million on workweeks of 40 hours or longer.

For every hour cut from the workweek of this fulltime wage and salary workforce, the number of new employees required to provide the same national total workhours is roughly one million. If 2.5 hours were cut from the workweek, the number of additional employees needed at a 37.5-hour week to maintain the same total workhours would be 2.7 million.

There obviously are many practical limitations in such calculations. It would not be feasible, for example, to reduce hours in all non-agricultural industries uniformly or at the same time.

There also are many factors affecting the actual number of new hires likely to take place immediately upon reduction of hours. The number of new hires would be reduced, for instance, to the extent that some companies made up lost hours by putting involuntary part-timers back on fulltime or by working present employees overtime. Another limitation on hiring is that reduced hours of present employees are not always directly replaceable by new employees. Much would depend on the extent to which work needed in the reduced hours coincided with the skills and geographical location of idle labor. Other significant factors also are involved, some making for even greater hiring. To the extent that new hiring occurs, for example, it would quickly increase demand and touch off additional production and hiring.

But even if the rough ratio of a 1-hour cut in the workweek to 1 million new jobs may be too high for practical purposes, it demonstrates the enormous potential of revision of the workweek as a force for enlarged employment.

If reduction took place for only half the fulltime non-farm workforce, for instance, the rough replacement ratio would be halved: One hour’s cut equals half a million new employed workers. A 5-hour cut to a 35-hour week for only half the workforce would release enough workhours for over 2.5 million jobs. [s-man: the punchline!]

What if similar rough calculations are made for manufacturing alone? There are roughly 14.3 million fulltime wage and salary workers on schedules of 40 hours a week or more (of 16.7 million total employment). The replacement ratio for a 1-hour cut in the workweek for these fulltime workers is 3 65,000 additional workers. For a 2.5-hour cut, it is 950,000 employees. For a 5-hour cut to a 35-hour week, it is over 2 million new employees.

In construction, comparable figures are more difficult to calculate because data on hours worked are often affected by weather and other factors. But very rough estimates indicate about 3 million construction industry workers are on workweeks of 40 hours or more. A 1-hour cut in their workweek would be equivalent to fulltime jobs for about 75,000 additional workers. A 5-hour reduction would be replaceable by over 400,000 new jobs.

In broad summary, then, reduction in hours without curtailment of weekly pay is looked to by the labor movement as a vital new tool to swing into action against excessive and rising unemployment.

Since 1953, after Korea, unemployment has doubled, from less than 3 percent then to nearly 6 percent today. For the decade ahead, with the labor force due to grow at a faster rate and advance in technology gaining momentum, unemployment is threatening to mount even more. If the economy does no better in creating new jobs in the 1960s than it did in the 1950s, the decade would close with an unemployment rate of nearly 10 percent—at least 7 to 8 million fully unemployed.

Wednesday, November 26, 2008

More from the Nov. 14 conference in New York organized by James Galbraith, as promised.

Bernard Schwarz called for the government to take over basic R&D for the Big Three automakers to come up with a truly green engine and to help reduce their expenses.

Bill Black supported bringing back the Glass-Steagall Act. I opposed this, but now seeing the collapse of Citibank am more open to the idea.

Pierre Calame called for the formation of regional monetary systems around the world.

Ping Chen called for a new relationship between the US and China in which the US would relax its restrictions on industries and firms that China can invest in, while China invests more directly in the building of US infrastructure and also in financially supporting its educational institutions.

George Papandreou, former foreign minister of Greece and president of the Socialist International, thanked James Galbraith for his father having saved the life of George's father, who was an economist and later prime minister, who was nearly executed by the junta. Papandreou called for a redistribution of wealth and power with green development to combat "barbarism on the planet."

In the past, people trembled in fear of dragons, demons, gods, and monsters, sacrificing anything – virgins, money, newborn babies – to appease them. We know now that those fears were superstitious imaginings, but we have replaced them with a new behemoth: the economy. -- David Suzuki

David Suzuki is the Canadian counterpart to Carl Sagan -- a renowned scientist turned TV and radio celebrity. He's also an outspoken environmentalist with his own foundation and a weekly column published in newspapers and magazines across Canada. In last week's column, Suzuki highlighted a new book by Peter Victor, Managing Without Growth: Slower by Design, Not Disaster. A key element of Professor Victor's proposed low-growth economic strategy is reducing work time. Although the discussion of reduced work time doesn't show up until the final chapter, it is hard to imagine a viable alternative to endless economic growth without it. As Suzuki wrote in his column, "This current economic crisis provides an opportunity to re-examine our priorities." (See also the New Scientist on The Folly of Growth).

This current economic crisis... and the political transition in the US. Back in August the New York Times Magazine published an article by David Leonhardt on "Obamanomics." The dramatic climax appeared toward the end of the article when a press aide walked back to Leonhardt's seat on the Obama campaign plane to tell him that Obama had more to say.

"Two things," he said, as we were standing outside the first-class bathroom. "One, just because I think it really captures where I was going with the whole issue of balancing market sensibilities with moral sentiment. One of my favorite quotes is — you know that famous Robert F. Kennedy quote about the measure of our G.D.P.?"

I didn’t, I said.

"Well, I’ll send it to you, because it’s one of the most beautiful of his speeches," Obama said.

In it, Kennedy argues that a country’s health can’t be measured simply by its economic output. That output, he said, "counts special locks for our doors and the jails for those who break them” but not "the health of our children, the quality of their education or the joy of their play."

The second point Obama wanted to make was about sustainability. The current concerns about the state of the planet, he said, required something of a paradigm shift for economics. If we don’t make serious changes soon, probably in the next 10 or 15 years, we may find that it’s too late.

"Something of a paradigm shift for economics" would require a move away from economic growth for growth's sake. Otherwise, it wouldn't be much of a paradigm shift. Managing without growth necessitates the reduction of working time. Otherwise, unemployment and poverty will destroy social stability.

The Sandwichman would like to call attention again to his "American Vision", submitted to the change.gov transistion website, of a Shorter Work Time Jubilee.

I had a phone call from a member of the Australian Citizens' Electoral Council this morning. The CEC is the Australian arm of Lyndon La Rouche's group and, as such, this branch is also heavily involved in the promotion of the expansion of nuclear power across the globe. When I questioned the wisdom of promoting such a dangerous and unsustainable form of energy I was assured by the caller that the science surrounding nuclear power is sound. I decided to have yet another look at some of the studies done. To simplify, I focussed on those related to Three Mile Island and specifically on the way the exposure levels of radiation were determined. What I found was a divergence of 'objective' observations clearly at odds with each other. (References 3, 4 and 5 all refer to the one report, the 1990 Hatch-Susser study.]

Harold Denton, Director of the Office of Nuclear Reactor Regulation ““They are getting 63 curies per second…[in] the order of three times what they were yesterday, which would put us in the 1200 millirems per hour." [1]

Joseph M Henri Chairman of the Office of Nuclear Reactor Regulation: “To a distance of about five miles. I have got a reading. During one of these burst, releases up over the plant several hours ago, up over the plant about 1200 millirems per hour which seems to calculate out, by the time the plume comes to the ground where people would get it, would be about 120 millirems per hour. Now, that is still below the EPA evacuation trigger levels; on the other hand, it certainly is a pretty husky dose rate to be having off-site [2]

The American Nuclear Society: “in every instance, the level of exposure was deemed to be very low” – an average of approximately 10 millirems and projected maximum dose of 100 millirems. [3]

Jan Beyea (nuclear physicist involved in the Hatch-Susser study): He estimates the maximum was 200 millirems. He said the figure could be up to four times that much, but said that was "very, very unlikely." Average doses in the area northwest of the plant - the direction in which the radiation plume traveled - were about 28 millirems, he said….. Some of the gauges simply were not able to measure amounts as high as what was released, said Jan Beyea…"It was insane," Beyea said of the inadequate monitoring. "It was sort of a sign of the optimism that nothing would ever go bad." [4]

Text from the scientific abstract of the Hatch-Susser study as published in the American Journal of Epidemiology: “the model of accident emissions was validated by readings from off-site dosimeters.” [5]

It is alarming to witness the parallels occuring in the fields of enviromental monitoring with that of the pesticide industry. Industry and government technicians seek out the areas where toxins are most likely to be watered down and base their observations and conclusions on studies in those areas. The vulnerability of individuals to narrow swathes of intense bands of poisons is ignored completely.

At this juncture in time I believe that it is justifiable for one to conclude - on the basis of a long history of disasters and accidents - that nuclear technology has been truly tested 'in the field'. Like many other industrial sectors it has been found wanting and so have the associated regulatory and academic institutions. Governance has simply not kept pace with the dangerous technologies employed by the world's transnational corporations.

[1] Pittburgh Post-Gazette Monday, April 16, 1979. The newspaper published a special report from the Associated Press that included excerpts of tape recordings of the proceedings of the Nuclear Regulatory Commission including the transcripts of the taped voices of Harold Denton, Director and Joseph M Henri Chairman of the Office of Nuclear Reactor Regulation. Their voices were taped on 30th March 1979 as they responded to the enormous release of radioactive gases at the Three Mile Island nuclear power plant in the US. As published in ‘SECRET FALLOUT - LOW-LEVEL RADIATION FROM HIROSHIMA TO THREE-MILE ISLAND – Chapter 18 ‘Too Little Too Late’ by Ernest Sternglass. http://www.ratical.org/radiation/SecretFallout/SFchp18.html

[2] Pittburgh Post-Gazette Monday, April 16, 1979. The newspaper published a special report from the Associated Press that included excerpts of tape recordings of the proceedings of the Nuclear Regulatory Commission including the transcripts of the taped voices of Harold Denton, Director and Joseph M Henri Chairman of the Office of Nuclear Reactor Regulation. Their voices were taped on 30th March 1979 as they responded to the enormous release of radioactive gases at the Three Mile Island nuclear power plant in the US. As published in ‘SECRET FALLOUT - LOW-LEVEL RADIATION FROM HIROSHIMA TO THREE-MILE ISLAND – Chapter 18 ‘Too Little Too Late’ by Ernest Sternglass. http://www.ratical.org/radiation/SecretFallout/SFchp18.html

[3] Health Studies Find No Cancer Link to TMI. From the American Nuclear Socity website. Accessed on 26th November 2008.http://www.ans.org/pi/resources/sptopics/tmi/healthstudies.html

[4] Gaps in research have angered some who were there in 1979 TOM AVRIL / Philadelphia Inquirer 26mar04http://www.mindfully.org/Nucs/2004/Three-Mile-Island26mar04.htm

The government could encourage bargaining to reduce hours, set an example by adjusting hours on government work and/or enact new workweek legislation. A positive policy would require specific announcement that the Administration would not discourage reductions in hours and would welcome this, at least in particular industries, as one of the variety of measures individual industries might use to bolster employment security.

Setting an example, in its role as an employer as it has done in the past. would require establishment of new reduced workweeks for employees to serve as an experiment and broad guide for private industry. It is worth noting that about a third of U.S. municipal governments already have fulltime workweek schedules shorter than 40 hours for their administrative and clerical employees.

New workweek legislation could of course take many forms. The principal approaches suggested have called for a reduction in the 40-hour standard established by the Fair Labor Standards Act, either immediately or in several steps spread over a period of time and either uniformly for all covered industries or through a special industry committee procedure functioning on an industry-by-industry basis. Each of these alternatives has some past legislative precedent.

Another major suggested legislative approach is a flexible workweek to be adjusted according to changes in the unemployment rate. A federal fund financed by a tax on employers could be established to help maintain weekly pay and national consumer purchasing power upon such reduction in hours. If the payments from the fund were scaled according to whether the employer hired more workers when he reduced hours, there would be an additional incentive for increased employment.

Tuesday, November 25, 2008

As the President-elect announced the appointment of Peter Orszag as head of OMB, he said something that might cheer up those deficit hawks:

In these challenging times, when we are facing both rising deficits and a sinking economy, budget reform is not an option. It is an imperative," Obama said in the statement. "We cannot sustain a system that bleeds billions of taxpayer dollars on programs that have outlived their usefulness, or exist solely because of the power of a politician, lobbyist, or interest group," he said. Obama said he would ask his economic team to "think anew and act anew" to meet new challenges. "We will go through our federal budget -- page by page, line by line -- eliminating those programs we don't need, and insisting that those we do operate in a sensible cost-effective way," Obama said.

Rubinomics – at least as I understood it – meant that we accelerate Federal spending in the midst of a recession but tell Wall Street over the long-term, we are serious about long-term fiscal restraint. We might also give tax cuts to liquidity constrained people such as the working poor but raise taxes on those who are not liquidity constrained – such as Bill Gates and Warren Buffet. In other words, short-term fiscal restraint to actually REDUCE national savings with some assurance to Wall Street that once this recession is over, we restore a commitment to increasing savings and investment.

Thus, John Taylor — a very good economist, when he wants to be — insists that we must respond to the economy’s temporary weakness with a permanent tax cut. Let us reason together. Does it make sense to let one recession dictate tax policy in perpetuity? What happens if there’s a boom; can we increase taxes (no, because then the cut wouldn’t have been permanent.) What if there’s another recession? Do we permanently cut taxes again? Is there a tax-cut ratchet (or maybe racket)? Think this through, and it makes no sense at all. And Taylor’s argument against the obvious answer — government spending as stimulus — is pure gobbledygook

In just a few weeks, we will finally have a President who also gets it even if that lame duck never did.

Dividing one number by the other, that works out to $280,000 per job. What is going on here? Logically, it must be one of three possibilities: 1. The fiscal stimulus is going to be much smaller than is being reported. 2. The new administration is setting a low bar for itself when it comes to job creation. 3. The Obama team believes in very small fiscal policy multipliers.

Facing an increasingly ominous economic outlook, President-elect Barack Obama and other Democrats are rapidly ratcheting up plans for a massive fiscal stimulus program that could total as much as $700 billion over the next two years ... Obama has set a goal of creating or preserving 2.5 million jobs by 2011.

To be fair, I praised the size of the proposed stimulus and I also wondered why there was such a low bar for job creation over the first two years.

But let me suggest an alternative explanation (as opposed to low multipliers) based on something the President-elect has said about things getting worse before they get better. Could it be that his economic team expects employment to fall even further before this proposed stimulus turns things around? For example – suppose we wake up in the New Year to an 8 percent unemployment rate which would translate into about 3.5 million jobs lost. To get a net increase of 2.5 million new jobs would mean we would have to see 6 million jobs created over the next two years. If the actual fiscal stimulus were $500 million, then we are talking about $83 thousand not $280 thousand. And the implied multiplier would be closer to 1.2 not 0.36.

On November 21, the inimitable Juan Cole (http://www.juancole.com) posted an appeal from 20 experts on Iran from both parties with a variety of backgrounds, including three ambassadors, for a more reasonable policy on Iran. One should go to his site to see the full discussion, but the highlights are five recommendations and the deconstruction of eight myths. I list them without details. Cole called for others to publicize this, and so I am doing so here a few days late, and making clear my agreement with and support of this appeal.

The five recommendations:1) Replace calls for regime change in Iran with a long term strategy.2) Support human rights through effective international means.3) Allow Iran a place at the table in determining the future of Iraq and Afghanistan, along with other key states.4) Address the nuclear issue within the context of a broader US-Iran opening.5) Re-energize the Arab-Israeli peace process with the US being an honest broker.

The eight myths:1) President Ahmadinejad calls the shots on foreign and nuclear policy.2) The political system in Iran is frail and ripe for regime change.3) Iranian leaders' religious beliefs render them undeterrable.4) Iran's current leaders are implacably opposed to the US.5) Iran has a declared intention to attack Israel to "wipe Israel off the map."6) US sponsored "democracy promotion" can help bring true democracy to Iran.7) Iran has clearly and firmly committed to developing nuclear weapons.8) Iran and the US have no basis for dialogue.

The relative merits of alternative economic approaches are not evaluated here. The points below may be useful, however, in assessing the wisdom of hours reduction as against other measures generally:

1. Shortening of hours does not need pinpoint timing for full effectiveness but is practicality and value diminish once a full-fledged recession is in process. The workweek can best be reduced with no loss in weekly pay while the economy is still comparatively prosperous, before unemployment pressures have mounted to become the dominant economic force. If the shorter hours tool is held in reserve too long and turned to only after the full shock of recession or immense load of unemployment arrives, its practicality and positive benefits will be severely blunted. Shorter hours would likely come then largely in an undesirable worksharing, cut-wage form force by overwhelming unemployment and would not be adequate to the task of contributing substantial momentum to employment upturn.

2. Advocacy of shorter hours does not mean rejection of other measures to increase employment. The choice need not and should not be an either/or proposition. Reduction of hours should be one of many steps applied to control unemployment, with the size of the reduction determined by the effectiveness of the overall program. If other measures prove effective in providing needed jobs, hours reduction can of course proceed more gradually.

3. Shorter hours are increasingly recognized by most workers and the public generally as directly related to the unemployment problem. This is not true to the same extent for other measures, such as government fiscal or monetary policies. Because so many workers would be directly or consciously involved in a general shortening of hours, there likely would be a wide sense of participation and appreciation of the anti-unemployment campaign, with accompanying psychological benefits for the economy.

4. Many of the collective agreement and government measures used to ease unemployment effects are geared to helping the unemployed worker hunt for a new job. These include private public retraining programs, relocation aid, counseling, severance pay and approaches. A major objective of shorter hours, on the other hand, is to reduce the need for layoffs and thereby encourage retention of workers in the type of work and industry to which they are already attached and in which they have already acquired training.

5. There is rather wide recognition that rapid technological strides will enable or force radically shorter hours at some point in the future, perhaps not all distant. Reduction in typical hours of work in the present period are necessary to aid in the economic and social transition to increased reliance on technology in place of manpower.

Monday, November 24, 2008

"Washington must realize that the dollar can no longer act as the sole reserve currency in the world. The dependence of the world on the dollar is not a blessing but a curse for America."

.....Nobody knows how Turkey Zaire, Peru and many other impecunious countries will ever pay back their loans to Citibank, Chase or the rest of the big U.S. lenders. The debtor countries, pleading poverty, could indefinitely defer repayment. Then the Federal Reserve Board would have to cover those bad debts, meaning that the U.S. taxpayer would finance the bailout. Says Zombanakis: "We have created a system in which almost the entire debt of the world rests on the Federal Reserve."[1]

These are the words of 'gunslinger' loan shark that sold syndicated loans [2] to the third world at an astronomical rate, according to economic historian and author Michael Moffitt [3].

"...Zombanakis did not invent the syndicated loan, but he is the one who put real flesh and blood in the market. Zombanakis brought numerous countries to the market who had never borrowed in international money markets before. Jetting around the world he dropped in on companies and finance ministries drumming up loan business for Manufactures Hanover, in the late 1960s when the Shah of Iran was virtually unknown outside the Middle East, he was introduced to Europe’s banking elite by Minos Zombanakis. As one banker told ‘institutional investor’ Zombanakis almost single-handedly got Manufacrturers to make a loan to Iran when it did not even have enough reserves to cover a month’s imports.” Loans like these were extremely risky and were sold more on Zombanakis’ bravado than on Iran’s credit-worthines...."[4]

[2] "Rather than assuming the whole risk of, for example, a $100 million loan to Mexico, the lead bank will telex a hundred others and offer them a piece of the loan. Syndicated loans are priced at the going interest rate, known as LIBOR, (London Inter-Bank Offered Rate) plus a margin known as a spread, which is inevitably proportional to the perceived creditworthiness of the borrower. For years, Brazil borrowed a tiny fraction over LIBOR. Once bankers got wind of Brazil’s smoldering debt problems, its spreads quickly soared over 2 percent. "‘The World’s Money – International banking from Bretton Woods to the brink of insolvency’ by Michael Moffitt. Touchstone Book, Simon and Schuster New York. 1983. ISBN: 0-671-50596-3 Pbk.

For an administration based on an ideology of untrammeled capitalism and which demands that all socially useful programs meet cost-benefit calculations heavily tilted toward inaction, the government seems to be getting little bang for its buck. Here is a Bloomberg estimate of a commitment of $7.7 trillion. Yes, the government can recoup some of this money, but probably not a lot.

The U.S. government is prepared to provide more than $7.76 trillion on behalf of American taxpayers after guaranteeing $306 billion of Citigroup Inc. debt yesterday. The pledges, amounting to half the value of everything produced in the nation last year, are intended to rescue the financial system after the credit markets seized up 15 months ago.

The unprecedented pledge of funds includes $3.18 trillion already tapped by financial institutions in the biggest response to an economic emergency since the New Deal of the 1930s, according to data compiled by Bloomberg. The commitment dwarfs the plan approved by lawmakers, the Treasury Department’s $700 billion Troubled Asset Relief Program. Federal Reserve lending last week was 1,900 times the weekly average for the three years before the crisis.

[...]

The bailout includes a Fed program to buy as much as $2.4 trillion in short-term notes, called commercial paper, that companies use to pay bills, begun Oct. 27, and $1.4 trillion from the FDIC to guarantee bank-to-bank loans, started Oct. 14.

Recently, I was talking with a bunch of other parents of teens who have high-functioning autism.* We were talking about the massive cut-backs in public services that have been happening and loom on the immediate horizon.

But the dark cloud may have a silver lining. Here in California, it seems, parents spend tremendous amounts of time and effort on the phone and in meetings (due process, etc.) hassling with the care-givers and -financers in order to get appropriate services or something reasonably close to it. In other places (such as Australia or most of the U.S.), it seems, many fewer publicly-provided services are available. But this (bad) situation can encourage a positive response: while in California, the state-sponsored Regional Center used to provide services such as "respite care" (time away from the damned kid), in other places, the parents pool resources to provide respite care to each other. There's less time spent hassling the care-givers and -financers, because they don't do much if anything.This kind of "mutual aid" (a concept central to libertarian socialist or anarchist thought, according to the Wikipedia) can be immensely liberating. However, I can imagine that a lot of time and effort can go into hassling other participants if feelings of solidarity are weak. If successful, this mutual aid can promote feelings of solidarity, encouraging a virtuous circle. In the US in the 19th century, labor unions were much more involved with this type of activity (in burial societies, providing unemployment insurance) than they are today (where the Andy Stern business union model of dues extraction seems the rule).

If the current recession turns into something more serious, it could combine with the longer-term trend of public-service cut-backs to encourage more mutual aid. This might in turn be the basis for broader "grass roots" political movements, independent of the political establishments (the two-party duopoly).

On the other hand, people might look to (soon-to-be) President Obama as the source of all solutions, sticking to the atomizing electoral model of politics. The latter can have the benefit of providing standardized public services. On the other hand, decentralized mutual aid tends to produce a division between groups having different amounts of income and health, belonging to different ethnic groups, etc. It does not seem to encourage mass grass-roots participation, except in short-lived waves.

I don't know what's going to happen to the economy (though it sure looks bad). What's going to happen with the society is even more difficult. With incomes falling along with public services, people could be driven into each others' arms (mutual aid). On the other hand, we may be split up into warring communities or praying that our benevolent leaders will solve our problems. Ideally, we could see the rise of new mass movements that would change the balance of political power, shifting it to the left, in favor of justice.

* It's the kids who have it, not the parents. That ambiguity is a problem with the "PC" language that prescribes "a person with a disability" to replace "a disabled person." I'm generally in favor of that "person first" language, by the way, because in the latter case the person is identified with the disability instead of having the disability seen as contingent.--Jim Devine

Some people in the media are freaking out about the possibility of steadily and/or steeply falling prices, i.e., deflation. So I figured out what kind of deflation was currently being expected by those in financial markets.I calculated the expected inflation rate implied by the difference between the rates on constant-maturity non-indexed 5-year government bonds and the inflation-indexed version of the same bonds. This number was steady at between 2 and 3 percent per year from 2003 to early July of 2008, which in general fits with the inflationary experience of the time. Then, there was a sudden fall. (What happened on July 2 or thereabouts?) As of November 20, it was –1.79%!! It's not just the media. The finance types are also freaking out.

Why is deflation a bad thing? Part of it is if people expect prices to fall, they delay purchases. Also, if prices are falling steadily, people don't want to borrow because the real value of their debts would rise. It's the opposite of the case of the inflationary 1970s, when people wanted to borrow a lot because the debts would lose value over time.

In looking at loans economists use the "real" interest rate, which is the nominal or money interest rate minus the expected inflation rate. Suppose I pay 4% interest on a loan. At the same time, inflation is barreling along at 2% per year and I expect it to do so in the future. That means the money I'm paying my loans back is losing 2 percent of its purchasing power each year. Thus, I subtract the inflation rate (2%) from the nominal rate (4%) to get the real rate, the interest rate in constant purchasing-power money (2%).

If the inflation rate that people expect goes from 2% per year to -2% and the interest rates appearing on loan agreements stays put at 4%, the real interest rate rises from 2% to 6%. And it's this rate that counts in determining decisions. The nominal rate can fall, of course, counteracting this. But it can't fall below 0. After that, increasing rates of deflation mean rising real rates.

Rising real rates make the recession worse by discouraging borrowing and spending. Recession then encourages further deflation. It can be a vicious circle.

It’s more than a matter of expectations. If people are locked into long-term loans with constant nominal interest rates and amortization rates on principal, and if nominal wages and salaries generally fall with prices, that means that debt service rises relative to wages due to deflation. If general enough, this phenomenon encourages bankruptcy.

Key to the last paragraph is the assumption that nominal wages and salaries fall with prices. A “true” deflation can be distinguished from a minor one by saying that in a true one, we see a wage/price spiral going downward. If wages and salaries don’t fall as quickly as prices, on the other hand, a mild deflation causes profit squeezes. Both are unpleasant in a capitalist economy.

Tyler Cowen has been busy opining on macroeconomic policy during the 1930’s including a November 23rd NYTimes oped critiqued by Econoclast but let us turn attention to Tyler’s critique of what Brad DeLong had to contribute. While I am grateful that Tyler pointed out my graph of net investment, I’m puzzled by this:

Only in 1941 did net investment exceed its 1929 level. Here's a chart which seems consistent with these claims and which shows the difference between the net and the gross series for investment. The waves are very similar but at different absolute levels. Can any readers explain what is going on In this time period, using this data, is net or gross investment a better indicator of recovery and economic conditions? Is the pro-New Deal claim that making net investment "less negative" (but still negative) counts as a success or rather that the gross investment series is what matters?

Whether one uses gross investment as Brad did – or net investment as I did (given the George Will tirade) – the measured increase in investment demand was roughly the same. So Tyler’s first question seems silly from a Keynesian perspective, while the answer to his second question is YES.

One might be wondering why I choose to graph exports (EX) minus imports (IM) as a share of GDP (all series in real terms) for the more recent years in a post about net investment during the 1930’s, but this is by way of an analogy. We have had negative net exports (NX) for quite a long time but we are not shy about saying how an increase in export demand had been fueling economic recovery until recently. So I do not see anything odd about Brad showing us gross investment without including the depreciation chart.

Now if Tyler wants to lament that the capital stock fell during the 1930’s, he has a point but a very different point. Incidentally, the net financial wealth of the U.S. has also been eroding during this prolonged period of current account deficits.

The following flow chart describing developments in the global banking and finance industry between 1944 and 1983 has been mostly compiled from information provided in Michael Moffitt's 1983 book 'The World's Money - International banking from Bretton Woods to the brink of insolvency'[1]. The common theme is clear; that the form of globalisation that has taken place over those decades has been largely determined by (mostly) western transnational corporations and with one overriding goal - worldwide profit maximisation.

Bretton woods (1944). -->The birth of the Eurodollar (1949) --> accelerating concentration of industry and banking --> American, Japanese and European corporations extend their global reach. --> the spectacular rise of the intracorporate (nonmarket) economy of the global oligopolies --> increasing intervention of government into the “private sector”--> A common tilt in investment and speculative decisions. US pressures European countries to restore convertibility of their currencies under the provisions of Bretton Woods (1958) --> Marked speculation in currencies begins with the re-emergence of hot money --> Development of the Euromarket (mid 1960s) --> a new generation of young bankers with the desire to go global. --> desire to build a global bank free of government regulation. US government prohibited interest on chequing accounts --> corporations and wealthy individuals transferred money out of these accounts and into financial products that earned interest (eg Treasury securities) --> banks forced to find new ways to attract corporate savings to stop the drain of funds --> negotiable certificates of deposits invented (CDs) by Walter Wriston of Citibank. --> banks bid competitively for corporate funds. --> the Euromarket undermines domestic monetary policy (1966). The 1973 oil shock [usury?] --> Petrodollar recycling 1973 --> bankers court the Saudis for deposits and conglomerate international banks try to drum up loan business from the 3rd world --> syndicated loans -->Growth of 3rd World debt --> Debt extended with eye to natural resources --> Interbank market--> Vast new opportunities to wheeler deal on a global scale --> Governments lose influence over events -->A regime of floating exchange rates is midwifed by massive speculation against the US dollar (1975)--> Despite the IMF the banks soon take over the business of lending to governments --> No way of recognizing a loss on a sovereign loan [Usury] -->European, Japanese and Arab banks take US share of global finance --> East-West Trade increased dramatically. Meaner terms are implemented on 3rd World loans [Usury]--> further debasement of credit standards in loans to 3rd World --> new forms of big business emerge in advisory role on loan reschedules to the 3rd World --> US Government bail out banks that made irresponsible loans to the 3rd World --> House of cards --> Global debt crisis now permanent. Usury in the form of extraordinarily high interest rates is institutionalized to preserve dollar hegemony (Volker, Oct 1979 ) --> IMF is now a supranational agency intervening in domestic politics --> Zero coupon bonds created by banks to avoid Government tax on interest. -->Economic and social disaster in poor countries (1983) --->

“…In the short run, the challenge of the global corporation concerns stability; in the long run, development. There has never been a time since the Great Depression when there has been more economic uncertainty around the world [1974]. But the corporate prospect of a world without borders offers something more distressing than uncertainty. It is a vision without ultimate hope for a majority of mankind. Our criterion for determining whether a social force is progressive is whether it is likely to benefit the bottom 60 percent of the population. Present and projected strategies of global corporations offer little hope for the problems of mass starvation, mass unemployment, and gross inequality. Indeed, the global corporation aggravates all these problems, because the social system it is helping to create violates three fundamental human needs: social balance, ecological balance, and psychological balance. These imbalances have always been present in our modern social system; concentration of economic power, antisocial uses of that power, and alienation have been tendencies of advanced capitalism. But the process of globalisation, interacting with and reinforcing the process of accelerating concentration, has brought us to a new stage…” [1]

Democratic sources tell ABC News that President-elect Obama's transition team is working with lawmakers on Capitol Hill so that on Obama's first day in office, Jan. 20, 2009, an economic stimulus package has passed both houses of Congress and is awaiting his signature … On Monday morning in Chicago, Obama will introduce key members of his economic team -- Geithner and soon-to-be National Economic Council director Larry Summers -- and will reiterate what he said in his Saturday weekly radio address: that he will push for a massive stimulus package proposal, one much larger than the $175 billion he proposed as a candidate, perhaps as high as $500 billion.

The story continues by noting that some Democratic officials argue that $500 billion might be too pricey and would invite a GOP filibuster. What – recessions are costless? My only complaint is that we can’t have this stimulus before Obama takes office. Then again - Gail Collins has an excellent idea:

Thanksgiving is next week, and President Bush could make it a really special holiday by resigning ... Putting Barack Obama in charge immediately isn’t impossible. Dick Cheney, obviously, would have to quit as well as Bush. In fact, just to be on the safe side, the vice president ought to turn in his resignation first. (We’re desperate, but not crazy.) Then House Speaker Nancy Pelosi would become president until Jan. 20. Obviously, she’d defer to her party’s incoming chief executive, and Barack Obama could begin governing. As a bonus, the Pelosi presidency would put a woman in the White House this year after all.

So Larry Summers will return to government in a key role on Obama’s economic team. It is said that he has a new outlook, less enamored of markets, more concerned with the fate of the bottom 90%. Fine. I’m all for a second chance, or a fifth or twelfth for that matter. I just want to see a Greenspan moment, with Larry facing the cameras and saying “I was wrong. Not just about a few small things or for a short time. I was wrong about the main thing, the idea that markets can be relied on to regulate the economy in the public interest, and I remained wrong throughout my earlier career in government. I cannot undo all the mistakes I made, but by acknowledging them I hope I can convince you I have learned from that experience, and that I will approach the crucial decisions before us with an open, humble and non-doctrinaire mind.”

Once upon a time, the left (or most of it) thought they had history all figured out: they could interpret day-to-day politics in light of the tectonic shifts in social formations, and they had an endpoint to aim at, a model of an alternative, noncapitalist economic system. For some, this became an excuse for amoralism, the notion that the glorious revolutionary ends justified actions that would be morally repugnant by any other yardstick. The intellectual reflections of this amoralism, the writings on this topic by Trotsky, Merleau-Ponty, Fanon and the rest, are now seen as little more than an embarrassment.

Today the problem is more likely to be the reverse. Lacking a convincing view of history or the potential transformation of the existing order—in other words, lacking the basis for a systematic strategy—activists on the left are at risk of embracing an extreme moralism. If we don’t know how to change society, at least we can separate ourselves ethically: we can be the good people in an evil world.

So much political debate today has the unspoken premise, “How can I protect myself from being guilty?” Not in my name, they say, although the horrors are no less when some other name is invoked. Actually, wanting to not be guilty is a fine emotion, but it should be a springboard to effective, strategic action, not a politics of personal virtue.

In the latest issue of The Nation, Bill Greider expresses what has become the mantra of the left at this moment of high fiscal drama: nationalize the banks. Rather than just injecting passive capital, we are told to take a decisive position in common (voting) stock, so we can change the management, put our foot down on compensation, and generally change the whole modus operandi. It sounds very radical, harking back to the days when socialists saw nationalization of the commanding heights of the economy as the first step toward nationalization of the minor peaks, foothills and ultimately just about anything above sea level.

But it’s a bad idea. If you want the banks, you can have them. After the hammering they’ve taken in the market the last few months, their combined capitalization is a tiny fraction of the Fed’s new, gunky portfolio. And there’s a reason: they’ve got a solvency gap of trillions of dollars. Buy a bank and its liabilities are now yours. If you happen to be the US government, your full faith and credit is on the line for every penny.

There is nothing radical, not to mention equitable or practical, about underwriting the vast quantities of dubious financial instruments that metastasized during the past decade. You want a publicly owned and managed bank to lend against the tide and finance reconstruction? Start a new one.

Most opposition to the idea of attacking unemployment by shortening the workweek without loss of pay is based on the view that other policies are more efficient or otherwise more desirable ways of meeting the unemployment problem.

The case for shorter hours does not rest on the notion it is the best way. It is based rather on the view, supported by ample evidence in the past decade of mounting unemployment, that: (1) other economic measures to achieve full employment are not being applied and perhaps cannot be applied; and (2) even if other economic policies are successful in stimulating greater growth in the period ahead, the rate of advance in technology and other labor-displacing changes is gathering such momentum that, unless part of the gains in efficiency are distributed in reductions in hours, it is virtually inevitable that it will show up in persistent and increased unemployment.

Organized labor has not made shorter hours its first choice in the campaign against unemployment. Its first choice has been to apply its most vigorous efforts, all through the last decade, for a range of other public and private actions to stimulate a more rapid rate of economic growth. Shortening of hours has been discussed periodically but a major drive has been held off as a "last resort."

Unemployment has been mounting steadily and is threatening to increase further because of automation and other technological innovations and because of the increased rate of labor force expansion due in the mid-1960s as postwar babies enter the job market. The economic programs relied on thus far to expand economic growth and job opportunities have been inadequate. Additional programs discussed as preferable to shorter hours -- most notably tax reduction, reform of the tax structure, marked expansion in public investment and an eased monetary policy -- are not being put into effect. To oppose hours reduction on the ground that other approaches are sounder and then to fail to apply them is not an acceptable course of action.

Sunday, November 23, 2008

What if, sixty years ago, we had collectively decided to take 1/2 of all future productivity gains as more and better goods and services and 1/2 as reduced hours of work? We would now be working full-time jobs of three days a week, six hours a day -- the 18-hour workweek. And we would have reached that point around 10 years ago.

Of course, my calculation assumes that everything else would have remained the same, which is unlikely. The reduction of working time would have stimulated more rapid technological innovation as well as direct productivity gains from a better rested, healthier, better-educated workforce. Furthermore, the limitation of growth of consumption could have led to a focus on wiser, less wasteful consumption.

The conservatives chime in with their vision of the Great Depression and FDR's response. And I clash my cymbals in reesponse, as shown in bold-face. His headlines are in italics.

The New York Times / November 23, 2008

Economic ViewThe New Deal Didn't Always Work, EitherBy TYLER COWEN

MANY people are looking back to the Great Depression and the New Deal for answers to our problems. But while we can learn important lessons from this period, they're not always the ones taught in school.

The traditional story [by whom?] is that President Franklin D. Roosevelt rescued capitalism by resorting to extensive government intervention; the truth is that Roosevelt changed course from year to year, trying a mix of policies, some good and some bad. It's worth sorting through this grab bag now, to evaluate whether any of these policies might be helpful.

If I were preparing a "New Deal crib sheet," I would start with the following lessons:MONETARY POLICY IS KEY As Milton Friedman and Anna Jacobson Schwartz argued in a classic book, "A Monetary History of the United States," the single biggest cause of the Great Depression was that the Federal Reserve let the money supply fall by one-third, causing deflation. Furthermore, banks were allowed to fail, causing a credit crisis. Roosevelt's best policies were those designed to increase the money supply, get the banking system back on its feet and restore trust in financial institutions.

This is simplistic, to say the least: the adherence to the gold standard (until 1933) prevented the use of monetary policy to stimulate the economy, while banks opposed such policies. The dominant view of the monetary establishment at the time (the Fed's Board, including the Secretary of the Treasury, Andrew Mellon) was that the economy would recover automatically after purging imbalances from the economy. In other words, the Milton Friedmans and Tyler Cowens of that day did not want to use monetary policy. Nature would take its course, automatically solving the economy's problems. The gold standard was part of the solution, not part of the problem.

(These folks were "Austrian" in their temperament: the 1929-33 recession was simply punishment for the sins of over-expansion during the 1920s. Expiation was needed. Interestingly, there are a lot of so-called "Austrian" economists where Cowen teaches. I wonder it he's arguing against them.)

In addition, this story ignores the steep fall in fixed investment and exports in the 1930s, which could not have been counteracted easily: fixed investment is hard to stimulate when unused capacity and/or debt is large (and expectations are pessimistic), while exports are hard to encourage when there's a trade war going on.

MF and A.J. Schwartz's Big Book is totally descriptive, by the way. It's not very analytical at all. They really don't posit any understanding of how the money supply affects the economy or how the Fed controls the money supply. They don't look at the political economy of the era at all. (Along with Capitalism and Freedom, the book is worshiped by the Chicago-schoolers like Cowen. This fits the way that MF is seen as their prophet and the free market as their one true God.)

A study of the 1930s by Christina D. Romer, a professor at the University of California, Berkeley ("What Ended the Great Depression?," Journal of Economic History, 1992), confirmed that expansionary monetary policy was the key to the partial recovery of the 1930s. The worst years of the New Deal were 1937 and 1938, right after the Fed increased reserve requirements for banks, thereby curbing lending and moving the economy back to dangerous deflationary pressures.

The economy was also stimulated by government deficits at the time. It's a mistake to look for only one cause. However, Romer is a good economist, whose research shouldn't be rejected before reading it.

Today, expansionary monetary policy isn't so easy to put into effect, as we are seeing a shrinkage of credit and a contraction of the "shadow banking sector," as represented by forms of derivatives trading, hedge funds and other investments. So don't expect the benefits of monetary expansion to kick in right now, or even six months from now.

Still, the Fed needs to stand ready to prevent a downward spiral and to stimulate the economy once it's possible.

Gee, isn't it doing so already?? Where has Cowen been?

GET THE SMALL THINGS RIGHT It's not just monetary and fiscal policies that are important. Roosevelt instituted a disastrous legacy of agricultural subsidies and sought to cartelize industry, backed by force of law. Neither policy helped the economy recover.

It was Hoover who started the ag. subsidies, while if expansionary fiscal and monetary policy aren't being used (as they weren't), cartels and the like prevent deflation, which was a total disaster. Cowen wants to put all the weight on monetary policy, it seems. Cartels aren't pretty, but they may have been what more sophisticated economists than Cowen call "second best" solutions. That is, when real-world markets don't work as desired and are not likely to work well in the near future, adding non-market elements (what Cowen would call "imperfections") can actually be beneficial. This is well-known to economists outside of George Mason University.

I'm no fan of agricultural subsidies, but why are they "disastrous"? more disastrous than the Depression itself? They seem to be so horrible because Cowen is comaparing an imaginary Eden of the Perfect Market to the one sullied by the Snake of subsidies.

He [FDR] also took steps to strengthen unions and to keep real wages high. This helped workers who had jobs, but made it much harder for the unemployed to get back to work. One result was unemployment rates that remained high throughout the New Deal period.

This is silly! Serious macroeconomists know that the main factor determining employment in a depression is aggregate demand and the amount of production, not the wage. Suppose real wages fall, as Cowen recommends. Why would an employer hire more workers, if the extra output can't be sold??

In any event, falling wages make matters worse on the demand side, as Keynes pointed out. Among other things, falling wages cause deflation, which even Cowen admists is a bad thing, encouraging depression.

Today, President-elect Barack Obama faces pressures to make unionization easier, but such policies are likely to worsen the recession for many Americans.

That's Cowen's opinion; he's anti-union.

DON'T RAISE TAXES IN A SLUMP The New Deal's legacy of public works programs has given many people the impression that it was a time of expansionary fiscal policy, but that isn't quite right [as has been known for a very long time, i.e., since E. Cary Brown's path-breaking research]. Government spending went up considerably, but taxes rose, too. Under President Herbert Hoover and continuing with Roosevelt, the federal government increased income taxes, excise taxes, inheritance taxes, corporate income taxes, holding company taxes and "excess profits" taxes.

Right. We should note, however, that raising taxes and government spending at the same time can stimulate aggregate demand, as in the famous but Cowen-forgotten "balanced budget multiplier" theorem.

When all of these tax increases are taken into account, New Deal fiscal policy didn't do much to promote recovery. Today, a tax cut for the middle class is a good idea — and the case for repealing the Bush tax cuts for higher-income earners is weaker than it may have seemed a year or two ago.

Right. In fact, at this point it looks like Obama is not going to abolish the Bush rewards for being wealthy and well-connected. Instead, he's just going to let them lapse. If he abolished them (a good thing to do), the middle-class tax cut or (even better) working-class tax-cuts would have to be larger to counteract the depressive effects of immediate abolition.

WAR ISN'T THE WEAPON World War II did help the American economy, but the gains came in the early stages, when America was still just selling war-related goods to Europe and was not yet a combatant. The economic historian Robert Higgs, a senior fellow at the Independent Institute, has shown in his 2006 book, "Depression, War, and Cold War," just how much the war brought shortages and rationing of consumer goods.

Right. We knew that: WW II started before the US got in -- as did the stimulative effects on the US economy. Cowen seems to be eliding the fact that the shortages and rationing happened only when the war became a total war.

By the way, even if war wasn't "the weapon" back at the cusp of the 1940s does not mean that it can't be so now. We can learn from history, but when dealing with the present it's a mistake to rule out alternatives that didn't actually happen in the past. Cowen could just as well say that monetary policy "isn't the weapon" because it wasn't used successfully during the 1930s.

While overall economic output was rising [once it had been stimulated by military spending], and the military draft lowered unemployment, the war years were generally not prosperous ones. As for today, we shouldn't think that fighting a war is the way to restore economic health.

War does promote the demand side, which is what the US economy needed at the time (in the late 1930s). In the long run, I think that war and military spending are bad for supply side growth (i.e., for long-term trend of real GDP) because they are tremendously wasteful.

On the other hand, WW II and the early Cold War may be the exceptions. The working class was strong enough to win the GI Bill (partly because our rulers remembered the negative effects of soldiers being abandoned after WW I), which helped supply-side growth. That, plus Cold War related infrastructural investment and subsidies for housing, helped create the so-called "golden age" of the US economy. Also contributing, of course, was US dominance in the manufacturing, financial, and military realms.

YOU CAN'T TURN BAD TO GOOD The good New Deal policies, like constructing a basic social safety net, made sense on their own terms and would have been desirable in the boom years of the 1920s as well.

Now there's an irrelevant point! Was Cowen around back in the 1920s to convince Coolidge and Hoover of this point? Can he guess why they opposed a social safety net?

The bad policies made things worse. [well, duh! ] Today, that means we should restrict extraordinary measures to the financial sector as much as possible and resist the temptation to "do something" for its own sake.

I don't know who it is who is proposing to "do something" simply for its own sake. This seems the old ruse of seting up a scare-crow, just to knock it down.

In short, expansionary monetary policy and wartime orders from Europe, not the well-known policies of the New Deal, did the most to make the American economy climb out of the Depression. Our current downturn will end as well someday, and, as in the '30s, the recovery will probably come for reasons that have little to do with most policy initiatives. [That's Cowen's faith.]

In a letter to Arthur Schlesinger dated April 9, 1958, Leon Keyserling stressed that Roosevelt came to Washington without a "systematic economic program." The "highly experimental, improvised and inconsistent" programs of the first New Deal defy categorization. They were the products of "schools of reformers" that had been promoting diverse programs that Roosevelt, higgledy-piggledy, picked up.

According to Keyserling, the PWA, CWA, NIRA, and the rest were not parts of any systematic plan or overall purpose. The only coherence given these events came from outside the administration. It was the "desire to get rid of the Black bill" that prompted the administration to draw up such things as the NRA, "to put in something to satisfy labor." This same point was made by other notables in Roosevelt's administration, among them Raymond Moley.

Throughout the depression, 30-hour legislation goaded Roosevelt to action. The Black-Connery bill, introduced in each depression Congress until passed in highly modified form as the Fair Labor Standards Act [FLSA] in 1938, with all the work-sharing teeth pulled, continued to function as a sort of reverse polestar, enabling Roosevelt to chart his course by the simple expedient of sailing in the opposite direction. Roosevelt's instinctive reaction against 30 hours matured to positive approaches to industrial stabilization and reemployment. They were built on work creation, not work spreading, founded on industrial growth and increased spending as the wellsprings of progress. In the process, he and his administration discarded the century-old notion that work reduction had the potential for social and individual advancement.

From the point of view of someone like Representative William Connery, who pushed for 30 hours from 1932 to 1937, the New Deal had a coherence, a reason for happening when and as it did, that was lost on others not so positioned. From Connery's perspective, the New Deal was what it was because of its opposition to 30 hours. -- Hunnicutt, Work Without End, pp.248-49

Here Greenspan describes the new technologies that have revolutionized banks' "basic business ... to measure, manage, and accept risk ... permitting ... the unbundling of risks, improvements in the measurement of risk, and revamping of risk management process."

"There are some who would argue that the role of the bank supervisor is to minimize or even eliminate bank failure; but this view is mistaken in my judgment. The willingness to take risk is essential to the growth of the free market economy …. [i]f all savers and their financial intermediaries invested in only risk-free assets, the potential for business growth would never be realized."

Greenspan, Alan. 1994. The New Risk Management Tools in Banking: Address to the Garn Institute of Finance, University of Utah, November 30, 1994.http://fraser.stlouisfed.org/historicaldocs/ag94/download/27991/Greenspan_19941130.pdf

The good news is that Obama wants to push fiscal stimulus ala public investment, but this seems way too conservative:

American workers will rebuild the nation's roads and bridges, modernize its schools and create more sources of alternative energy, creating 2.5 million jobs by 2011, Obama said in the weekly Democratic address, posted on his Web site.

With the employment-population ratio at 61.8% and population at 234.6 million, creating 2.5 million new jobs NOW would still leave the employment-population ratio below 63%. Over the next couple of years, we would new about 2.5 million new jobs just to be around a 62% employment-population ratio. I hope his goals for a recovery are more ambitious than this sounds.

Passage would be a political gamechanger. Recently, I stumbled across this analysis of how nationalized healthcare in Great Britain affected the political environment there. As Norman Markowitz in Political Affairs, a journal of "Marxist thought," puts it: "After the Labor Party established the National Health Service after World War II, supposedly conservative workers and low-income people under religious and other influences who tended to support the Conservatives were much more likely to vote for the Labor Party when health care, social welfare, education and pro-working class policies were enacted by labor-supported governments."

An honest conservative might accept this claim and say: well, I guess our ideas are unpopular, so we'll just have to make our case more persuasively. But that's not the conclusion they draw. Pethokoukis and Cannon say: because people will like health care reform, if we do not block it, our party will lose support. So precisely because people would like it if they tried it, we need to make sure that it fails. At least they're honest about it.

Truth be told – this is a major reason why conservatives want to undermine the Social Security program. Yes – they do try to tell us it’s some sort of Ponzi scheme, which of course, is just blatant dishonesty. But the real reason that they hate Social Security is that it is popular – as well as good policy from the perspective of those who care at least as much about the working class as the investor class.

Leading conservative operative William Kristol privately circulates a strategy document to Republicans in Congress. Kristol writes that congressional Republicans should work to "kill" - not amend - the Clinton plan because it presents a real danger to the Republican future: Its passage will give the Democrats a lock on the crucial middle-class vote and revive the reputation of the party. Nearly a full year before Republicans will unite behind the "Contract With America," Kristol has provided the rationale and the steel for them to achieve their aims of winning control of Congress and becoming America's majority party. Killing health care will serve both ends. The timing of the memo dovetails with a growing private consensus among Republicans that all-out opposition to the Clinton plan is in their best political interest.

Kristol does belong to the wing of the Republican where good policy and good politics have been at war for years.